Advice please - company law on 50:50 partnership plus moral issue

[MerlinChang]

I'm just setting up a limited company with an old uni friend. We would bring different strengths to our chosen field and feel this would be a good business venture and partnership.

The idea being we would each hold a 50:50 shareholding and all profits would be distributed equally, taking a directors salary and once we have gained sufficient clients and revenue, our income would be paid by dividends. Does this sound about right?

The advice we need is if for instance one of us became unable to work for a long period of time, say hypothetically 3-6 months, and were unable to contribute to our firm in any way shape or form, where would this leave the other party? How would we deal with our 50:50 remuneration - are we legally bound so that one person only is doing all the work and the person who has not contributed is still "entitled" to 50%?

What would be the accepted way of dealing with this kind of scenario (legally and morally?).

You need a shareholder's agreement. I know that it seems like an unnecessary expense now, but it would cover all of this and more. Like what happens if you fall out. It shouldn't the earth. Think of it like an insurance policy - hopefully once it's signed you can put it in a drawer and never have to look at it again.

Thank you GettingObsessive.

Ok, so ............ if we didn't have one in place (signed) before that one party became ill - where would we be?

Sorry - just trying to get it all straight in my head.

Thanks.

It would be complicated. It would depend on the terms of the articles of association of the company - often these say that if a director cannot attend meetings for, say, 6 months, the other director(s) can remove him from his post. But that becomes a lot more complicated if there is only one other director and/or the ill director is also a shareholder. You can get into accusations of one director trying to force the other out.

With a two person company there is also the risk of deadlock - essentially, that happens where the two can't agree and there's no-one to break the deadlock because both parties have equal voting rights. A shareholders' agreement should cover that and say what should happen in those circumstances. Otherwise, you're likely to end up paying lawyers a fortune to sort it out (valuing the company, one buying the other out, if you can afford that) or in court to sort it out. Shareholder disputes are VERY expensive.

I am a lawyer and I have dealt with a couple - the last one I saw where it was done through lawyers (my client being bought out) cost about £10K in fees and if you have to go to court it can cost ten times that.

However, it's excellent that you've started to think ahead about this sort of stuff; too many people swan into business with their best mate and assume that they will never disagree or nothing will go wrong.

You need a shareholders agreement signed and the company shares structured properly ideally before you start trading: the normal way to do this would be with two different classes of share so that different levels of dividend could be awarded as appropriate.

But no shareholders agreement can protect you from a situation where one person that owns 50% of a company doesn't want to play fair, for example refuses to agree to an uneven dividend split even though they have not been contributing as much to the business. In that case the best you can hope for is an effective way for the parties to split which IMO is one of the two frighteningly named alternatives Texas Shoot-Out or Russian Roulette (yes this is really what they are called but don't worry, there are no weapons involved and even the loser ends up with more than half of what he thinks the company is worth!)